What is Warrants
A derivative security that gives the holder the right to purchase securities (usually equity) from the issuer at a specific price within a certain time frame. The main difference between warrants and call options is that warrants are issued and guaranteed by the company, whereas options are exchange instruments and are not issued by the company. Also, the lifetime of a warrant is often measured in years, while the lifetime of a typical option is measured in months.
Warrants: A High Return Investment Tools
A warrant is like an option. It gives the holder the right but not the obligation to buy an underlying security at a certain price, quantity and future time. It is unlike an option in that a warrant is issued by a company, whereas an option is an instrument of the stock exchange. The security represented in the warrant (usually share equity) is delivered by the issuing company instead of by an investor holding the shares.
Characteristics of a Warrant
Warrant certificates have stated particulars regarding the investment tool they represent. All warrants have a specified expiry date, the last day the rights of a warrant can be executed. Warrants are classified by their exercise style: an American warrant, for instance, can be exercised anytime before or on the stated expiry date, and a Asian warrant, on the other hand, can be carried out only on the day of expiration.
The underlying instrument the warrant represents is also stated on warrant certificates. A warrant typically corresponds to a specific number of shares, but it can also represent a commodity, index or a currency. The exercise or strike price is the amount that must be paid in order to either buy the call warrant or sell the put warrant. The payment of the strike price results in a transfer of the specified amount of the underlying instrument.
The conversion ratio is the number of warrants needed in order to buy (or sell) one investment unit. Therefore, the conversion ratio to buy our IPO stock is 1:1, this means that the holder needs one warrants in order to purchase one share. Usually, if the conversion ratio is high, the price of the share will be low, and vice versa.
Investing in Warrants
Warrants are transferable, quoted certificates, and they tend to be more attractive for medium-term to long-term investment schemes. Tending to be high-risk, high-return investment tools that remain largely unexploited in investment strategies, warrants are also an attractive option for speculators and hedgers. Transparency is high and warrants offer a viable option for private investors as well. This is because the cost of a warrant is commonly low, and the initial investment needed to command a large amount of equity is actually quite small.